2 Retirement Plan Proposals, Many Questions
Expanded or open MEPs address some problems, but more action is needed.
At the time of this writing, two major proposals in Washington, D.C., let employers band together to offer a retirement plan in an arrangement called a multiple-employer plan, or MEP. In one proposal, the U.S. Department of Labor has issued a draft regulation that would modestly expand the number of employers that could gain access to a MEP. In the other, several members of Congress have reintroduced “open MEP” legislation.
The questions are, how much can we expect from either of these proposals, and if they are finalized, what will need to happen for MEPs to help more people save for retirement?
What Problems Could Expanded MEPs Solve?
About one third of Americans lack access to a retirement plan, and millions who have plan coverage contribute to a substandard plan through a small employer. The idea behind expanding MEPs is to address these problems by allowing employers to band together to offer a retirement plan to their workers. (MEPs already cover about 4 million workers in legacy plans.)
Advocates point to MEPs as a way to improve the small-employer retirement marketplace by 1) reducing administrative responsibilities and costs for employers, 2) assuaging small-plan sponsors’ concerns about fiduciary liability, and 3) lowering the fees that workers pay to invest through the plan. These improvements would make small-employer retirement plans better and might even expand the number of employers willing to extend retirement plans to their workers.
Labor Department’s Proposal Is Limited
Last year, the Department of Labor proposed expanding MEPs—at least somewhat. The proposal isn’t comprehensive enough to create sweeping changes. Nonetheless, if finalized, it could induce a few more entities to offer plans, possibly increasing retirement coverage and improving the quality of the retirement plans for some small businesses. The most significant impact of this proposal might be that it gives professional employer organizations (which offer companies a way to outsource human resources services) a leg up in offering MEPs and might encourage more employers to join such organizations.
The reason the Labor Department’s proposal is so limited is that to introduce MEPs on a broader scale, Congress must amend a few parts of the Employee Retirement Income Security Act. At least, that is the Labor Department’s longstanding view of its authority under the law.
As a result, the Labor Department’s proposal doesn’t empower insurance companies, broker/ dealers, recordkeepers, or third-party administrators to offer plans. In contrast, most of the bills pending in Congress contemplate such entities becoming “pooled service providers” to offer and market MEPs.
The Labor Department’s proposal would expand the availability of MEPs in two novel but incomplete ways. First, the proposal empowers professional employer organizations to offer MEPs. Second, the proposal provides additional guidance to employer groups and associations and makes it clear they can act as employers in running a MEP for their members.
Still, the Labor Department’s proposal would bar any completely unrelated companies from forming MEPs. However, it would make it easier than it is today for companies to band together to offer retirement plans. For example, the proposal clarifies that associations of employers in the same trade, industry, line of business, or profession can offer MEPs. And the proposal empowers associations of unrelated businesses in the same city, metropolitan area, or state to offer a MEP. That means that local chambers of commerce (which are geographically based associations) could more easily sponsor a MEP under the proposal.
Just as notable as what’s in the proposal is what isn’t. The proposal doesn’t address the “one bad apple” provisions that have discouraged plan sponsors from joining MEPs. The one-bad-apple rule means that if one employer maintaining the MEP fails to satisfy all the requirements of ERISA, then the plan could lose its tax preferences for all the other employers. The Treasury Department has said it would address this rule, but it’s unclear to what extent the department could fix it without congressional action.
Legislation Would Be Much More Sweeping
Several bills in Congress—most notably the Retirement Enhancement and Savings Act— contain a proposal for “open MEPs,” which would go much further than the Labor Department’s proposal by eliminating two barriers that prevented employers from joining MEPs. First, the legislative language would remove the common nexus requirement, enabling unrelated employers to come together to offer a retirement plan. Second, the language assures employers that the entire MEP will not lose its tax-favored status due to the actions of just one member employer. The legislation also creates a new entity: a pooled plan provider that will act as an administrator of the plan and serve as a fiduciary.
Open MEPs would be an exciting policy change, but it is far from clear how they would work in practice. How appealing open MEPs are to small employers and how effective they are at improving the quality of retirement plans depend a lot on how the industry reacts—and at least a little on how regulators nudge MEPs along. Further, regulators will have to balance concerns about ensuring these plans are sound and well-regulated with making certain they are appealing enough so that the industry promotes and uses them. This leaves major questions unanswered:
Can open MEPs reduce administrative costs?
The big question is, will open MEPs reduce administrative costs by more than they add to them, given the inherent complexity of maintaining a plan with many employers?
Currently, according to our analysis of the Form 5500 (a required annual retirement plan filing), small plans pay around four times as much for administrative costs as do large plans, and that number does not necessarily capture administrative costs that participants pay indirectly through fees for investments that are shared back with retirement plan service providers. Policymakers hope that open MEPs will drive down costs as they help small employers form a larger plan. However, there are some key challenges that regulators and the industry will need to address to see this theory work in practice in a system with a lot of moving parts, particularly as the Labor Department tries to reduce administrative costs while ensuring the MEPs are well-regulated.
Would open MEPs reduce fiduciary liability, and if so, for whom?
The MEP legislation is clear that each employer retains fiduciary responsibility for the selection and monitoring of the pooled service provider— so the legislation does not reduce employers’ fiduciary liability in that sense. However, unlike the relationship between single-employer plans and their service providers, the pooled service provider would be a named fiduciary of the plan as well as the administrator of the plan. The pooled service provider, in turn, will be able to outsource investment decisions to another named fiduciary.
While the arrangements that let a so-called 3(38) fiduciary (named after the section in ERISA) help select a plan’s investment lineup are already available, these fiduciaries may be much more widely adopted as part of an open MEP as the cost for high-quality advice is spread out over more employers. The extent to which the MEP legislation will relieve small employers of fiduciary obligations depends on how MEPs evolve and what kinds of guidance and regulations the Labor Department promulgates—if any. For example, the department could give broad exemptive relief to the pooled plan providers, reducing the constraints they operate under as a fiduciary. The department might take this step if regulators think that doing so would induce more plan providers to enter the open MEP market without undermining protections for plan participants.
Would open MEPs offer a limited investment lineup, or would they turn into a platform by another name?
The way open MEPs offer investments to their constituent employers will depend on the answers to some of the previous questions and could make or break MEPs as a real upgrade over single-employer plans. If open MEPs simply provide a long list of investments that each plan sponsor must select, the only advantage of them from an employer’s perspective is the single annual disclosure, and possibly some other small economies of scale. The employer will still need to select investments for his or her employees, and it’s likely the plan won’t have the leverage to access institutionally priced investment options.
In contrast, a limited lineup—particularly one with a 3(38) fiduciary—would relieve employers of the burden of monitoring and selecting the investment lineup. The challenge will be for the 3(38) fiduciary to pick an investment lineup that will work for disparate employers, particularly to the extent that the open MEP plans can offer qualified default investment alternatives for automatic enrollment. A solution might be to layer managed accounts on top of a limited fund lineup, which could then customize asset allocations to each worker in a MEP, based on basic census information.
Success Depends on Further Action
The bottom line for MEPs is that Congress needs to act to make them widely attractive. If Congress passes legislation creating open MEPs, regulators could guide them in several different directions. There are critical unresolved questions about how open MEPs will operate, however.
Regulators will also almost surely want to see what the industry does with open MEPs before proposing major regulations. One key to open MEPs’ success will be if they can work without a new exemption. Without such an exemption, open MEPs will probably rely on 3(38) fiduciaries to select investments, likely for the entire group of employers. Another key will be ensuring there is sufficient, useful disclosure on open MEPs, without eliminating the administrative efficiency they are supposed to bring to the retirement market. If all the pieces fit together, open MEPs could dramatically restructure the retirement industry.
This article originally appeared in the Summer 2019 issue of Morningstar magazine. To learn more about Morningstar magazine, please visit our corporate website.